Changes to SR&ED program coming your way in 2012 – with more audits - for Canada
Canada’s SR&ED (scientific research and experimental development) incentives are here to stay, but the program is quietly undergoing significant alteration. Short version: expect more scrutiny.
SR&ED incentives are here to stay, but the program is quietly undergoing significant alteration. Short version: expect more scrutiny.
With the federal government projecting a $36-billion deficit, Canada Revenue Agency has narrowed the interpretation of what qualifies as SR&ED to reduce the value of projects and expenses qualifying for refunds or credits.
Change began in June 2010 with a radically new CRA directive to deny SR&ED claims lacking “sufficient” supporting evidence, even if the projects clearly met the definition of SR&ED. Now more claims are being denied, and CRA has reduced its payout by about 30 per cent. At the same time, CRA in British Columbia has increased its audit staff by 50 per cent so as to scrutinize each claim more closely.
More importantly than ever, to qualify for R&D tax credits and claims, organizations must understand how to navigate through the program from identifying projects to documenting and submitting claims.
Here are my top tips for SR&ED claims in 2012.
1. You’ll need to pass the “strongly novel” (SN) test. Every year, CRA introduces a new standard of what qualifies for SR&ED. In 2012, your work will need to pass the SN test. CRA’s auditors will accept as novel only projects that represent attempts to go beyond industry standards. Your auditor will try to define your activities as routine or standard practice in your industry. You should know, however, that the actual legal requirement is for your projects to advance your company’s standards, not your industry’s standards.
2. You’ll need timesheets. The CRA says that documentation created during the normal course of business will suffice as evidence of SR&ED. In a new application bulletin, CRA now requires companies to justify the claiming of payroll time by use of notated timesheets. When chosen for audit, you’ll receive a demand for documentation. Since it can take some 40 hours to prepare for and respond to an audit, keep your records easily accessible to reduce the drain on your time.
3. CRA treats scientific research (SR) well. CRA appears to have decided that pure and applied research (SR) is the good side of the “&”. This may be both expedient and optically prudent: expedient because SR only accounts for 10 per cent of all SR&ED claims, optically prudent because SR most closely resembles the plain-language meaning of “R&D.” Yet while CRA will be inclined to accept SR, your documentation will still need to include notated timesheets.
4. CRA treats experimental development (ED) harshly. Even as recently as 2010, SR&ED was an incentive program. The success of reviewers was measured by how much money they gave out. Today, reviewers are called auditors. Their focus is on compliance, their success measured by how much money they don’t give out. Nevertheless, B.C. firms still receive $500 million of SR&ED tax incentives, of which about half are refunds to smaller companies.
5. If you receive an ITC in 2012, you’ll receive one in 2013. In our view, CRA is re-cataloguing claimants. Each claimant receives a risk score. If you pass the new, more stringent review, you score well. In future, you’ll see fewer reviews.
6. In late March the federal government will adopt some of the recommendations of the Jenkins Report. This means that the SR&ED program for small companies will become even more payroll based and the CRA will be able to provide a pre-claim ruling on eligibility. More on this once the budget is tabled.
If you are a public company, are foreign-owned or pay the highest rate of tax, SR&ED will not change for you. If you’re a small company, the changes will be phased in.
Taking the awful out of the audit: What you can do to improve SR&ED compliance
· Parts, not the whole: CRA is disinclined to accept an entire development project as SR&ED. Make claims for components of the project.
· Out with the yardstick: Make sure your objective is measurable.
· All in the details: In the main body of your claim, include daily notes and references with details about the problems you’ve encountered and the failures you’ve experienced.
· Document, document, document: Generate R&D documentation. Online tools allow for such documentation to be constructed collaboratively. Some organizations assign tasks internally or employ external consultants to keep records. If your key employees aren’t trained in R&D, an external consultant may be helpful.
David Kaplan is president of Revenue Services Group, B.C.’s largest SR&ED advisory firm, and SREDable.com, which produces online R&D tracking and claim software. Before founding these companies, he was a senior M&A executive with Ernst and Young. For more information, visit www.revenuservices.ca and www.sredable.com.
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